As you grow up and move away from the shadows of your elders, you start to feel the taste of reality. Life might throw financial troubles at you anytime. I don’t know if you can dodge it, but you can at least be prepared to handle such scenarios by smartly designing your personal finance.
Well, you might ask, what is personal finance?
What Is Personal Finance?
All of us would be aware of the Union Budget of India presented annually by the Ministry of Finance. It covers the income, expenses, investment, and budget allocated to run our nation.
Now, if we take a microscopic view, the same applies to individuals and families. Each of us needs to manage our money by allocating it appropriately to meet our needs and desires. This forms the basis of ‘Personal Finance.’
Personal finance is about managing your day-to-day needs and planning for your future needs (like retirement) with the available resources. It encompasses banking, insurance, mortgages, investments, tax, retirement planning, etc.
In fact, an entire industry is devoted to building services and products to help individuals manage their finances and take advantage of investment opportunities.
What Is an Example of Personal Finance?
Examples of personal finance include the following.
- Optimizing your tax payments to increase your take-home pay
- Planning and managing your monthly expenses
- Clearing your debt and improving your credit score
- Diversifying your investment portfolio to manage risk
- Taking sufficient insurance coverage to protect your family
Why Is Personal Finance Important?
Let’s go a couple of decades back.
There aren’t many avenues to spend your money in India. Thus, our earlier generations could save a good portion of their income and handle their finances well.
Fast forward to the present day, brands and marketers are using every tool in their arsenal to make you spend. It’s becoming more and more challenging to save up money.
Moreover, easy credit availability is nudging people to spend even if they don’t have money. Well, what could go wrong? Unsurprisingly, credit is utilized in every wrong way possible.
We can take cues from the US economy on what would happen if your finances were mismanaged. Americans are taking an ever-increasing amount of debt to fund their purchases. The US household debt accounted for over 66% of the country’s nominal GDP as of June 2022. Their household debt surged by $2 trillion between December 2019 and August 2022.
If we take India, the household debt went from $335.6 billion to $441 billion between March 2020 and March 2022. Our household debt to GDP ratio is around 14.1% as of March 2022. Though it’s a relatively small number, we are not far away from accumulating enormous debt if not managed property.
Adding fuel to the fire, inflation is continuously eating away the currency’s purchasing power, leading to general price increases of goods and services.
Hence, planning your personal finance is essential to meet your financial goals. These goals could include car purchase, vacation, home ownership, child’s education, retirement, wealth accumulation, etc.
Five Important Components of Personal Finance
Any aspect of personal finance can easily fit under one of these five components — Income, Expenses, Savings, Investments, and Financial Safety.
Your personal finance journey starts once you have a steady source of income. Income means cash inflow and can be of different forms — Salary, business profits, rental income, dividend income, pension, freelancing income, etc. It’s always good to have more than one income stream.
Expense, also called cash outflow, is another critical aspect of personal finance. The rule of thumb is, “Your expenses should be less than your income.” This approach would ensure a promising financial future.
Savings refer to putting money aside for immediate future needs — both planned and unplanned. A well-thought-out financial planning would never suggest you stop spending and put as much as possible into savings. On the contrary, you should spend adequate money without offsetting your financial goals.
Considering the macroeconomic scenarios, investment is not an option anymore but a crucial part of your personal finance. Investing is different from savings. While saving is putting money aside for future needs, investing refers to buying assets expected to appreciate over time and provide higher returns. You can invest in multiple ways by purchasing fixed deposits, stocks, bonds, crypto, real estate, etc. However, choosing a suitable investment product can be tricky as everything might not align with your risk appetite. Much research and analysis go behind choosing and managing your investment portfolio.
If you choose to invest in cryptocurrency, you must explore Mudrex. It makes investing in cryptos a much simpler process by offering you crypto baskets called Coin Sets.
5. Financial safety
Personal finance is not complete without taking care of financial safety. Your money is useless if it’s not helpful during a crisis. Unexpected events like health problems or accidents can happen to anyone. Accumulating emergency funds and having insurance coverage are some of the best ways to safeguard oneself financially to handle surprise events.
Principles of Personal Finance
Personal finance might look like a daunting expedition.
But no worries, I am here to lay down the principles and best practices to kickstart the process of giving yourself and your family financial security, flexibility, and freedom.
The best part is these tips hold up at any stage of your life.
1. Know your take-home pay
It’s all for nothing if you are unaware of how much you bring home after taxes and other deductions. Therefore, knowing your take-home salary is critical before making significant commitments such as car loans, credit card debt, or a mortgage.
Surprisingly, many white-collar professionals are unknowing of their in-hand salary. At some point in our life, we would have mistakenly equated Cost to Company (CTC) with net or take-home pay.
2. Create a budget
Creating an annual and monthly budget (of income and expected expenses) will give you a roadmap to build your savings while spending within your income range.
You can make use of the 50/30/20 method, which is a popular budgeting framework. It goes like this:
- 50% of your net income goes toward essential spending, such as rent, utilities, transport, and groceries.
- 30% is allocated to discretionary expenses, which include shopping, dining, traveling, charity, etc.
- 20% goes to support your future self — debt repayment and saving for retirement and emergency fund.
3. Pay yourself first
Dedicate adequate money from each paycheck to building an emergency fund and towards your long-term goals before paying any bills. As per the 50/30/20 approach, the 20% bracket falls under this category.
4. Quickly build an emergency fund
If COVID-19 has taught us one thing, that is the importance of having an emergency fund. Many households financially collapsed due to sudden medical expenses. As the name suggests, an emergency fund can be utilized during the times of crisis like job loss, medical problems, and other such instances.
Saving 12 months of expenses as your emergency fund is ideal. But you can start by saving three months’ worth of expenses before aiming for 12 months. Once you have filled up a sufficient emergency fund, you can focus on investing your money for better returns.
5. Never borrow what you can’t repay
Borrow only if you can pay off the money. Of course, it’s easier said than done.
Most people, including billionaires, borrow money from time to time. Debt is good when utilized smartly, like acquiring income-generating assets. But if you overconsume debt to incur wasteful spending, it will lead to financial disaster.
To avoid such spending, you can follow the 30-day rule. It’s a self-imposed restriction to control your impulse spending habit.
The rule suggests you wait 30 days before making a final purchasing decision. In that time, you would have gained the ability to make a more informed decision and will often eliminate unproductive expenses.
6. Clear high-interest debts first
If you have multiple debts, clear the one with a high-interest rate as soon as possible. This approach would ease your debt burden and improve your credit score.
Also, it will free up your income to invest elsewhere.
7. Take care of your credit score
Gone are those days when an individual could default on their loans but still manage to get new loans. However, currently, your credit record is governed by credit bureaus. Hence, your credit score will get hurt if you mismanage your loan repayments, impacting your likelihood of getting credit in the future.
8. Safeguard yourself through insurance
‘Insurance’ is not a pleasant term for multiple reasons — Lack of understanding, procrastination, negative sentiment, etc. Nevertheless, it should be a critical part of your financial planning as it will protect you and your family from financial hardships. Health, auto, home, and life insurance would come in handy when required.
Also, insurance can get expensive as you get older — especially medical and life insurance. Thus, it’s better to get one as early as possible.
9. Plan your financial future
Write down your financial goals (short and long-term) and the timeline to achieve them. Once you have identified the ‘what,’ it becomes easier to design a roadmap to reach those goals.
10. High returns mean high risks
Investment products with increased return potential are prone to higher risk. Hence, spreading the risk across multiple asset classes is essential before exploring any high-risk products.
Below are some of the well-known investment vehicles in India for beginners to explore.
- Fixed Deposit
- Public Provident Fund
- National Pension Scheme
- Real Estate Investment Trust
- Mutual Funds
11. Beware of get-rich-quick schemes
If something is too good to be true, it probably is. Social media is filled with thousands of snake oil salesmen proposing get-rich-quick schemes. Please be wary and safeguard your hard-earned money from them.
12. Get help from professionals when required
It’s always good to improve your financial literacy and handle your money independently.
But there would be times when one might need external guidance. Hence, it’s prudent to consult a financial advisor or an accountant before making financial decisions. A professional advisor can help you manage expenses, plan taxes, explore investment options, and build your portfolio.
For example, if you seek professional support for investing in cryptocurrencies, then Mudrex Coin Sets is an excellent option. Coin Sets are essentially baskets of crypto tokens based on themes like Crypto Blue Chip, Metaverse, NFT, etc. These are curated by experts and aim to bring a profitable investment option to investors.
How to Get Started With Personal Finance?
Learning is the key.
Financial literacy can take you a long way in your journey, regardless of your income level. Hence, before you save and invest, spend some time improving your knowledge.
Fortunately, a wealth of resources is available online for those who want to learn about personal finance topics.
Retirement might look like a lifetime away, but it arrives sooner than expected. The earlier you start planning, the more benefit you get.
Unfortunately, our formal education system doesn’t equip us with personal finance concepts. It’s up to us to take charge of our financial future.
But it doesn’t mean you must deprive yourself today to secure your future. Balancing your present and future needs is essential to living a fulfilling and holistic life.
1. What are the five main components of personal finance?
Personal finance can be categorized into five components.
- Income: Cash inflow
- Expenses: Cash outflow
- Savings: Money put aside to handle short-term needs
- Investments: Money used to purchase assets expected to appreciate in the future
- Financial Safety: This includes insurance, emergency fund, etc.,
2. What is the 30-day rule?
The 30-day rule is a self-imposed restriction to control your impulse spending habit.
The rule suggests you wait 30 days before making a final purchasing decision. In that time, you would have gained the ability to make a more informed decision and will often eliminate unproductive spending.
3. How can I improve my financial skills?
Many resources are available online for those who want to learn about personal finance topics. After developing the required knowledge, you can start implementing them to get first-hand experience.
This approach would help to improve your financial skills quickly.
4. Is saving INR 1000 a month good?
Saving INR 1000 per month is a good start. You would be way ahead of your peers even with this small amount.
Going further, you can periodically increase your savings contribution by increasing your income and managing your expenses.
5. How much savings should I have at 40?
There is no magic number. It varies based on family commitments, debt obligations, country of living, individual goals, and needs.
However, by the time you are 40, it’s recommended to accomplish at least the following.
- Building an emergency fund to handle 12 months of your expenses
- Insurance coverage for you and your family
- Manageable debt obligations